Investment Perspectives 2022 | Mid Year review & Outlook

Executive Summary

The economy is facing a sharp slowdown, and visibility is poor

The world economy is slowing down, and early-year GDP growth forecasts have been downgraded materially. The war in Ukraine, lockdowns in China, supply-chain disruptions, and restrictive monetary policies have hurt economic activity severely and hopes for the extension of a strong post-COVID recovery period have been crushed. Russia’s invasion of Ukraine has exacerbated ongoing strains from the pandemic, such as supply chain bottlenecks and significant increases in the price of many commodities. Inflation pressures have also proved to be much more persistent than those forecasted by central banks. The World Bank now expects global growth to reach only 2.9% for the whole of 2022, from a 4.1% projection six months ago. The economy has had to face even more headwinds than expected so far this year and recession risks have kept on rising.

Financial conditions will continue to tighten

The recent period has seen a most dramatic hawkish shift from central banks. Markets are now anticipating the most aggressive and synchronised tightening cycle since the Volcker era of the early 1980s. It has taken some time for central banks to realize how wrong their inflation forecasts had been, and they are now in catch-up mode. The yields of G-7 sovereign bonds have increased at an unprecedented pace. A rise of yields had been anticipated but the speed at which central banks, especially the Fed, have shifted their monetary policies has shocked the markets. In January, markets were expecting three 0.25% rate hikes only by the Fed in 2022 to a level of 0.75%. A month later, five hikes had been discounted, to a level of 1.25%, and by March this expected level had moved up to 2.5%! Current expectations are for the Fed funds rate to end 2022 close to 3.5% and for the terminal rate to reach 4% in 2023. Rate hike expectations from the ECB have also increased significantly, from none expected in January to five at the time of writing to an end-2022 level of around 1%.

The second half will likely remain volatile for financial markets

The first half of 2022 has been brutal for global equity and bond markets. Despite solid 1Q corporate earnings and, so far at least, an overall positive outlook on future profits, equities have dropped significantly because of the rising hawkishness of the major central banks. The combination of higher earnings and lower equity prices means that the derating of valuations, a trend observed since the end of 2020, has continued throughout 2022. Sovereign debt yields have risen at an accelerated pace and credit spreads have widened significantly. Key broad bond indices are down by around 15%, a staggering drop for the asset class. Investors have had to continuously adjust their expectations relative to the policies of the major central banks, which has triggered outsized volatility. In view of the elevated level of uncertainty, due to economic and geopolitical headwinds, we expect financial markets to remain volatile in the near term.

The positioning of the portfolios has become more defensive

Our portfolio positioning has become more defensive, with a neutral allocation towards equities, an overweight in alternative strategies and a fixed-income allocation which is underweight and has a low level of duration. For non-USD denominated portfolios, the US dollar position was also increased, a defensive move. Our equity exposure remains well diversified and some growth equity strategies have been replaced by more defensive ones, a switch that has worked well so far. Our assessment is that a lot of negative news has already been priced in, and market sentiment has become overly depressed. In the current market conditions, the more defensive strategies, including the less cyclically exposed companies, real assets, healthcare, value equities, and quality growth businesses, are likely to continue outperforming. We also like the decorrelation offered by equities of frontier markets, especially as their valuations remain very compelling. In the next section of the document, we will evaluate the macro environment and the prevailing financial conditions by highlighting several key indicators that we observe. Following a brief overview of the first half returns of the different asset classes, we will outline our current market outlook and asset allocation.


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